Sanctions: Things Are About to Get Interesting. Really Interesting.

Marc Noland and I have literally written hundreds of posts about sanctions. With respect to North Korea, they have been written with declining conviction. As we argue in Hard Target, the structure of North Korea’s trade, China’s equivocation, and the regime’s entrepreneurial capacity to absorb and evade sanctions has limited their economic effect. And of course this means that their political effects are typically negligible as well.

That is about to change. President Trump's Executive Order (“Presidential Executive Order on Imposing Additional Sanctions with Respect to North Korea”) differs from most other presidential EOs. It is not hortatory or aspirational. It does not rely on Congressional cooperation or subsequent legislation that may or may not be forthcoming. It is simultaneously precise, detailed and sweeping. We are about to run the most significant experiment in the use of secondary sanctions on North Korea to date, and perhaps the most significant such experiment with respect to any country ever.

The Executive Order has four working parts (although these don’t follow the EO’s organization), and each of them is significant.

First, the order basically allows Treasury to designate any North Korean person. This is important because it recognizes that the North Korean political economy is essentially fused; the idea that one entity or individual does not serve the broader interests of the regime is pure fiction. Of particular importance in this regard are North Koreans who are engaged in evasion of financial and trade sanctions, but it extends to those engaged in nominally “commercial” trade as well as activities such as the export of labor. Anyone is fair game.

Second, the EO allows Treasury to target anyone engaged in any trade with North Korea. To be sure, the EO appears to take a sectoral approach. In Section 1 (a) i, for example, it lists specific activities (construction, energy, financial services, etc.). But don’t be fooled. A close reading makes clear that Treasury has the authority to go after anyone engaged in any economic activity with North Korea whatsoever (Section 1 (a) iii: anyone found “to have engaged in at least one significant importation from or exportation to North Korea of any goods, services, or technology.”). Moreover, it also provides Treasury the authority to go after anyone who materially assists such economic exchanges (1 (a) v; 1 (c) i-iii). If the first moving part leaves no ambiguity with respect to North Koreans, this aspect of the order leaves no ambiguity with respect to foreign counterparties and facilitators.

The third moving part goes after the transportation industry, and in my view is less likely to be a binding component of the resolution. Nonetheless, it does ban from American airports and ports for six months any aircraft or ship that has called at a North Korean port or airport. Although not central, since any such activity would be proscribed under the second “moving part,” it does make clear that the US plans to aggressively pursue the whack-a-mole reflagging of North Korean ships.

The fourth moving part is worth quoting at length, because it is the one part of the EO that is partially self-enforcing:

“All funds that are in the United States, that hereafter come within the United States, or that are or hereafter come within the possession or control of any United States person and that originate from, are destined for, or pass through a foreign bank account that has been determined by the Secretary of the Treasury to be owned or controlled by a North Korean person, or to have been used to transfer funds in which any North Korean person has an interest, are blocked and may not be transferred, paid, exported, withdrawn, or otherwise dealt in.”

This piece of the EO is important because every single big bank in the world has sent or will be sending a memo to their compliance teams. Those teams in turn will be scrambling to figure out if they have any North Korea risk. Note how ambiguity helps: all that has to happen is for the Secretary of the Treasury to determine that the account is suspect. This means that foreign banks not only have to pay attention to what might be called “first order beneficiaries”—“is this wire from a North Korean front company?”—but “second order beneficiaries”: companies that are not front companies but that are nonetheless doing proscribed business, perhaps without even knowing it. The EO does have a reasonable “knowing standard,” meaning that liability depends on knowing that business with the entity is proscribed. But Treasury is not sitting on its hands, and with this authority will be turning over rocks and coming up with more designations as well.

I have long believed that engaging with North Korea is the ethically preferable way to get their attention, and that sanctions should always be coupled with exit ramps. But after a while, if you study North Korea seriously you get worn down, as much engagement—particularly that with China—has not only failed to deter the country’s nuclear and missile program but has clearly enabled it.

That said, here are a range of reasons why this new initiative might not work.

Kim Jong Un goes kinetic. Believing he is truly cornered, Kim Jong Un decides that his caution—nuclear tests on home soil; missile tests mostly in international waters; avoiding any collateral damage—has not staved off the relentless march to tighter sanctions. Further escalation is therefore required. The purpose—perhaps misguided—would be to get the US to back down, probably by giving Japan and Korea second thoughts.

China equivocates. Chinese agreement to the recent UNSC resolutions—meaning those from both 2016 and 2017 (2375, 2371, 2321, 2270)—marked an incremental and then accelerating departure from previous policy. But Beijing clearly does not like secondary sanctions and may feel like they have gone too far and need to recalibrate. If they do, there are a myriad of ways they could throw KJU political and economic lifelines.

Kim Jong Un has more reserves than we think. In an otherwise sober assessment of North Korea’s external trade (with which we will quarrel next week), Ruediger Frank at 38North points out that with $2 billion in reserves, North Korea could import for quite a while without distress. Frank provides no indication of how he got this number, and the capacity to import now depends on the myriad of new restraints that have been put in place; money is not enough and it might not take as long as Frank thinks for reserves to be depleted anyway. But reserves clearly do matter, since someone might be willing to take risks. Which brings me directly to the fourth reason this might not work.

The global gray economy is deeper than we think. Secondary sanctions rest on the concerns of banks and firms—mostly but not only Chinese—that they will face severe, even devastating political risk. But clearly many of the banks and firms that North Korea is dealing with have little or no US exposure. Marc Noland and I have repeated the 90 percent number for the Chinese share of North Korea’s trade that comes out of considering the mirror statistics. But many of those firms work in the Northeast China world, and we could well be underestimating other sources of income: from Iran, elsewhere in the Middle East, or business that is conducted between third parties (think shipping services by North Korean vessels plying trade between Iran and elsewhere in the Middle East or North and East Africa. If the sanctions don’t have the anticipated effect, it could be because North Korea has a soft landing zone in a parallel universe of banks and firms that simply are immune from the EO.

North Korea can take it. As the title of our book suggests, North Korea is a hard target. In somewhat different ways, both the Frank piece cited above and an analysis of North Korean energy needs by Peter Hayes and David von Hippel at Nautilus adopt this line. Frank notes that as recently as a decade ago, North Korea survived on less than a third of the trade it is doing now. And Hayes and von Hippel, piecing together an estimated energy balance sheet, conclude that the North Koreans have probably stockpiled enough oil, gasoline and diesel to meet their perceived energy needs; as a national security state par excellance, we would expect no less. I am not buying this theory, and on grounds of the ratchet effect. As Melanie Hart and Renee Ding point out in an outstanding piece at the Center for American Progress, the new middle class is an Achilles heel; it is going to be far harder this time out to simply squeeze without seriously reconsidering the cost-benefit calculus of stubborn commitment to the nuclear and missile program. But plenty of my colleagues think I am wrong, and that North Korea could just slither back into import-substitution and an extreme shortage economy.

President Trump goes kinetic. My main concern with the sanctions EO is not the new measures themselves, but how they fit into a larger strategy. If the sanctions start to bite in a serious way, we will have a debate about whether to keep squeezing in order to bring the regime down or relent in order to achieve our strategic objective of denuclearization. But in the meantime, it is possible that the President’s patience is tested as he discovers that even these draconian measures may take time to play out. Secretary Tillerson has outlined the two-pronged approach pretty coherently (See here and here). Despite the “totally destroy North Korea” pull quote, the President himself emphasized diplomacy at the UN and virtually all of his key people have followed suit. But seeing this through to its conclusions will depend not only on patience but in figuring out a path for Kim Jong Un to back down. Much more effort has been put into the sanctions side of the equation than into the negotiation piece. Ironically, if the sanctions work the order of attention will need to shift, and possibly sooner than people think.

Comments

miko sloper

September 22, 2017 3:56 AM

i wonder why politicians and commentators continue to aim for a goal of dis-arming north korea. it is clear that this will not happen. the north korean rhetoric is based on not following libya and iraq, which were attacked as soon as they abandoned weapons programs. north koreans want to DETER an attack. what is wrong with that?
i am also amazed that neither politicians nor commentators point out the hypocrisy of advocates of "free trade" insisting on sanctions as political tools.
as long as our leaders are more interested in "victory" than in peace, there will be neither.
i suspect that we will see china and russia actively abandoning the sanctions in order to defuse the tensions which could lead to a nasty war if responsible grown-ups don't break up the stupid adolescent quarrel. china would like to construct a railroad line to south korea, which would of course require normal economic relations with north korea.
maybe the whole thing will play out as a "good cop, bad cop" scenario.

it is absurd and obscene to see all of these threats and sanctions with no negotiations under consideration. whatever happened to "jaw-jaw is better than war-war"?

Travis The Dragon

September 22, 2017 4:55 AM

If Kim wanted NK to deter an attack, he wouldn't have been showing THREATENING videos of the White House being blown up by nukes. And he hasn't been showing that stuff just since Trump started his fight against NK. There's at least one video like that from when Obama was president.

Ali

September 22, 2017 5:12 AM

Completely agree with you, I also find it shocking how little context Western media outlets are giving for the decades long hostility between NK and USA, and how they all rely on the narrative of "KJU is crazy, we don't know what he wasnt or why he's doing this!"

North Korea has both a good reason for being weary (Gadaffi, Iran) and has very specific demands that they've been very consistent about - they want the massive annual US military exercises in South Korea to stop because they consider it an extreme act of aggression; they want to have direct diplomatic talks with South Korea under the condition that SK have full command of its own army (it's currently fully controlled by the US military), and they want the US military bases in SK and Japan to shut down.
Of course whether or not the bases stay is entirely up to the people of SK and Japan, but I don't see anything wrong with at least using the first two demands as a starting point. for talks.

But of course to the US government, whether under D or R leadership, this is a complete no-go, to the point that the media is not even allowed to inform people about these demands.
Madeleine Albright at least tried her best to get negotiations going with NK, and even said that the North was more commited to finding a diplomatic and peaceful solution than any Israeli or Palestinian diplomat she ever negotiated with. Then GW Bush shut it all down and ramped up the hostility and everything went to hell, and here we are today.

But who writes about this? Why are all media outlets falling in line with this dishonest "Insane man threatens us for no reason!" narrative that only serves US military interests?